Tuesday, June 17, 2008

New Evidence on Fat vs. Slim Governments: The Early Supply-Siders Were Right

In the early 1980s, Ronald Reagan embraced the ideas of a small group of economists dubbed "supply-siders." They argued that lower taxes and slimmer government would stimulate growth, enterprise, harder work and higher levels of saving and investment. These views were widely ridiculed at the time, dismissed as "voodoo economics."

A quarter of a century later, many more countries have cut taxes and reined in heavy-handed government intervention. How far have they gone down this path, and with what success?

My study, "Big, Not Better?" (Centre for Policy Studies, 2008), looks at the performance of 20 countries over the past two decades. The first 10 have slimmer governments with revenue and expenditure levels below 40% of GDP. This group includes Australia, Canada, Estonia, Hong Kong, Ireland, South Korea, Latvia, Singapore, the Slovak Republic and the U.S.

I compared their records to the 10 higher-taxed, bigger-government economies: Austria, Belgium, Denmark, France, Germany, Italy, the Netherlands, Portugal, Sweden and the United Kingdom. Both groups cover a representative range of large, medium and small economies measured by their gross national incomes. The average incomes per capita of the two groups are similar ($27,046 and $30,426 respectively in 2005).

The early supply-siders were right (see chart above summarizing empirical findings). My findings firmly reject the widely held view that lower taxes inevitably result in cuts in public services, slower growth and widening income inequalities. Today's policy makers should take note of how tax cuts and the pruning of inefficient government programs can stimulate sluggish economies.

7 Comments:

It is hard to find fault with the graph. One other possibility needs to be addressed. What about the possibility of having a larger government with lower taxes? Most of the last 6 years have dealt with a ballooning government size along with lowering taxes.

Effectively, the government is trying to make tax cuts now and increasing the spending. Are my children going to be paying for this policy until they have grandchildren?

I love the idea of lower taxes and a smaller government. The problem with smaller government is that nobody wants to vote themselves out of a job...Therefore government almost always grows!

> Effectively, the government is trying to make tax cuts now and increasing the spending.

Actually, this is a classic straw man. The deficit, in terms % of GDP, is no worse now than it typically has been at any time in the recent past (most people only look at the numbers, without considering just how utterly massive the US GDP is. Proportions count, always. Who is in worse shape -- the guy who makes 20k/year who is 12k in debt, or the guy who makes 90k a year who is 25k in debt? The USA is guy #2).

The Fed's income-to-debt ratio is probably less than yours, and certainly less than that of most Americans.

Not to suggest I don't agree with shrinking the government (and I believe this is one of the main things which has cost the GOP a mass of votes in recent times, their failure to follow through on many of their stated intentions), but there are differences between the NEED to shrink the government and the idea that it's a Real Good Thing.

My objection to the social policies of socialist/collectivist idiots like Obama or Clinton (and, to a far lesser extent, a RINO like McCain) is that these policies promise not only to NOT shrink the government but to screw up the economy to boot.

In short, they will not only make it NEEDFUL to shrink the government (because the debt-to-income ratio will skyrocket), they'll make it as painful to actually do as it possibly can be.

You want a depression, not a recession? Go ahead -- vote for Obama. If he gets elected he will be the worst PotUS in the history of the USA.

So if the US was a guy making 90K/yr he'd be a guy with $62,700 in debt.

Of course the US national debt does not include future commitments that have been made but not funded, so there is actually more debt than that AND we actually have debt as a nation on more than just the federal level (municipal bonds, for example), so our debt as a nation is understated in that regard as well.

Again, I keep hearing that small government is a good thing. I have never seen it happen. Even with the GOP god Reagan, the military increased in astronomic proportions, effectively making government bigger. Does Obama want smaller government??? Hell No. Does McCain want smaller government??? Hell No. Did Bush want smaller government??? He said he did, but Hell No.

Actions speak louder than words. I have seen absolutely no action to reduce the size of government. In the past 200 years has the government ever gotten smaller??

Is the guy who has an income of 90k/year, but buys a house for 400k in worse shape than the guy who makes 30k but rents for 12k a year?

Yeah, at some point, you have to pay off the house. Nominally, you can't keep adding to credit-card/equity debt.

But resolving THAT requires getting pork-barrel spending cut back massively. Good luck, since no one wants to have their ox gored. "Pork Barrel" also includes cutting back on redistribution programs, too -- these are one of the largest (and most inexcusable) examples imaginable. The entire former budget for Defense in the cold war was gutted -- and instead of eliminating it, instead of handing it back to the taxpayers -- it was shifted into all sorts of free money programs. A budget that in 1990 was ca. 300 billion lept to over 800 billion by 2000 (guess who was PotUS for the entire change?) I'm sure it's over a trillion a year by now. Cut THAT fat sow in half and you're where you want to be -- paying off the debt by 200 billion a year, instead of adding more to it.

Oh, and -- I think everyone knows what happened a few years back when the GOP attempted to switch just *some* of that unfunded debt you're concerned with over to a self-funded system. So we know who to blame -- right?

> the military increased in astronomic proportions

Hardly. It certainly got bigger but not by anywhere near what you suggest, in constant dollars.

And, in case you didn't notice, the goal was achieved, in well under 10 years... Can the proponents of the "war on poverty" say the same? Because that's where all that money went later.

> Does McCain want smaller government??? Hell No.

McCain is and has always been a RINO. If the alternative were not someone from the leftmost 10% of Congress, I would vote against him just for the purpose of demonstrating just how pissed I am -- but Dems can't figure out the basic fact -- you win by going for the swing vote, you don't win by pushing farthest-edge candidates.

> Did Bush want smaller government??? He said he did, but Hell No.

As did the rest of the elected GOP. You might have noticed voter disgust with this had an expected result in 2006.

> Actions speak louder than words. I have seen absolutely no action to reduce the size of government. In the past 200 years has the government ever gotten smaller??

LOL, with a country expanding, in both size, population, and wealth as it has for virtually it's entire history, it is categorically stupid to ask for it to "shrink". And I concur, over the last 99 years (since the passage of the 16th amendment, mainly), the "growth in constant services" has radically ramped up -- but prior to that, it certainly was a lot more moderate and consistent, and, adjusted for the factors above, probably DID drop from time to time.

But you should realize that there was, indeed, a time when a president -- Grover Cleveland, would veto a public wealth transfer bill and say:I can find no warrant for such an appropriation in the Constitution; and I do not believe that the power and duty of the General Government ought to be extended to the relief of individual suffering which is in no manner properly related to the public service or benefit. A prevalent tendency to disregard the limited mission of this power and duty should, I think, be steadily resisted, to the end that the lesson should be constantly enforced that, though the people support the Government, the Government should not support the people.

The selection of coutries is interesting. Out of the 10 higher-taxed countries, 7 are part of the eurozone and yet another has a fixed exchange rate with the Euro. Out of the lower taxed countries only two are part of the eurozone, one of them joined the ERM II (i.e. got a fixed exchange rate against the Euro) as late as november 2005. Two more of these coutries are in ERM II, but joined as late as 2004 and 2005 and hence this should not affect the period 1996-2006 very much.

Do you not think that this Euro could potentially have a bigger influence on the growth rate than the size of the government? The large European countries have been struggling with low growth rates and other economic problems since they fixed their exchange rates. It is insanity to have coordinated monetary policies without coordinated fiscal policies and that might be what is actually seen here.

Also, in the lower-taxed countries, 3 of them are former eastern european countries that enjoy higher growth rates while catching up with the western countries.

The conclusions of this author could be right, but there are very important aspects affecting the comparison so much that these conclusions cannot be drawn with any certainty.